Abstract
This Selected Issues paper assesses recent trends in Hungary’s potential growth and medium-term growth prospects. It analyzes to what extent the recent moderation of GDP growth reflects structural factors. The paper lays out some stylized facts about the Hungarian economy that could explain the growth slowdown observed in recent years. It provides estimates of potential growth using various methods, identifies the sources of the growth slowdown, and offers forecasts of potential growth over the medium-term under the baseline scenario. A model-based approach is also employed to estimate potential growth over the medium term under a reform scenario.
Labor Market: Recent Trends and Policies1
A. Introduction
1. Hungary’s growth performance has been lagging behind its peers over the past years, and raising its potential will include addressing low labor force participation rates. Labor market participation rates in Hungary are among the lowest in the European Union, and are also low in comparison to regional peers.
2. Since 2010, the authorities implemented a number of reforms that directly or indirectly affected the labor market. As a result, participation rates and employment have increased of late. Yet, large-scale employment in public works programs may be masking sluggish private sector job growth, and much more needs to be done to boost sustained employment creation in the private sector.
3. In part, reforms have been incomplete. For example, too little has been done so far to improve public education and vocational training to reduce skill mismatches, especially of the young. However, a significant number of measures introduced by the government arguably increased obstacles to employment, including a higher tax wedge for low-income earners, substantial increases in the minimum wage, and–not least—a deterioration in the business climate due to an increased administrative burden, tax complexity, and frequent policy changes.
4. Against this background, the chapter analyzes recent labor market developments in Hungary and identifies policy recommendations for addressing remaining obstacles to sustainable increases in employment. Section B describes recent labor market developments, including the government’s most critical reform steps, and identifies key remaining challenges. Section C draws on international and Hungarian evidence to develop policy recommendations for removing obstacles to higher participation and employment in Hungary. Section D concludes.2
B. Recent Labor Market Developments
Stylized Facts
5. The authorities took a number of steps to increase labor force participation and employment (Box 1). Participation rates have been increasing gradually over the past decade. In particular, participation among older cohorts saw a significant increase as steps were taken to tighten access to early retirement schemes, and the full impact of the phasing out of conventional early retirement schemes and stricter eligibility criteria for disability pensions is yet to filter through the data. At the same time, higher participation rates coincided with falling unemployment as employment rates increased significantly through end-2013.
Activity Rates, 2005–2013
(Percent)
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Source: EurostatActivity Rates, 2005–2013
(Percent)
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Source: EurostatActivity Rates, 2005–2013
(Percent)
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Source: Eurostat
Unemployment and Employment Rates
(Percent)
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Unemployment and Employment Rates
(Percent)
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Unemployment and Employment Rates
(Percent)
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
6. While private sector’s contribution to employment creation picked up in the last quarter of 2013, the overwhelming share of the increase in employment has been due to the expansion of the public works program. To a smaller degree, gains in employment abroad also played a role. Controlling for these two phenomena highlights that private sector employment growth in Hungary still remains too weak to absorb the existing—or, through increases in participation, growing—labor force. In sum, while cuts in benefits appear to have been relatively successful in bringing workers into the labor market, policies do not appear to have been as successful in creating a futile ground for absorbing this additional labor in a sustainable way.
Employment Growth and Sectoral Contribution
(Year-on-Year)
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Employment Growth and Sectoral Contribution
(Year-on-Year)
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Employment Growth and Sectoral Contribution
(Year-on-Year)
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Total Increase in Employment
(Thousands)
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Source: KSHTotal Increase in Employment
(Thousands)
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Source: KSHTotal Increase in Employment
(Thousands)
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Source: KSHMajor Policy Changes Since 2011
The Széll Kálmán reform plan included a significant number of measures with direct or indirect repercussions for the labor market (Ladanyi and Kierzenkowski, 2012). These included:
Tax Policy: A flat PIT with elimination of the employment tax credit and super-grossing; simplified business taxes; and reduced employer contributions for targeted groups (low-skilled, young, old, long-term unemployed, returning mothers, career starters).
Benefit Reform: Significant changes in the duration, level and eligibility for unemployment benefits, social assistance, and other income replacement benefits. For example, the duration of unemployment benefits was cut to three months. Early retirement options and access to disability benefits were severely restricted.
Active Labor Market Programs: A First Job Guarantee Program for career starters; and a much-scaled-up public works program, accounting for about 5 percent of total employment by end-2013.
Labor Code: Reductions in employment protection; and more flexible work options.
At the same time, the government also took a number of measures that could result in a negative impact on labor supply and demand, on balance. For example, tax reductions overwhelmingly benefited higher income groups, while the tax wedge (and associated work disincentives) for low-income earners actually increased (Toth and Virovacz, 2013; OECD, 2014). The minimum wage was raised substantially to compensate workers that were adversely affected by the tax changes (19 percent in 2012; 5 and 3.5 percent in 2013 and 2014, respectively), while minimum tax hikes in Hungary tend to depress demand for labor (Kertesi and Köllő, 2003; Elek at al., 2012). Finally, while welcome progress was made on phasing out early retirement options, a new early retirement scheme for women was introduced.
Remaining Challenges
7. Not unlike in other countries of the region, the key remaining challenge is very low employment of the low-skilled. Hungary boasts the second-lowest employment rate of low-skilled workers in the OECD, at around 40 percent, with obvious implications for poverty and inequality.
Employment rate by level of educational attainment
Employed persons aged 25-54 in per cent of population in the same age group, 2011
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Source: OECD (2013), Education at a Glance 2013: OECD Indicators.Employment rate by level of educational attainment
Employed persons aged 25-54 in per cent of population in the same age group, 2011
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Source: OECD (2013), Education at a Glance 2013: OECD Indicators.Employment rate by level of educational attainment
Employed persons aged 25-54 in per cent of population in the same age group, 2011
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Source: OECD (2013), Education at a Glance 2013: OECD Indicators.8. Structural unemployment of low-skilled workers has been an unwelcome by-product of the economic transition across the region, and is also reflected in especially high long-term unemployment rates for older cohorts—almost three-quarter of registered unemployed above the age of 55 are unable to find jobs. However, in Hungary, there is a troubling link to the younger cohorts that leave the education system with minimal skills and never manage to find productive employment. Youth unemployment at 27 percent is relatively high. Activity rates of workers below the age of 25 are very low, in particular amongst the low-skilled, and about a third of youth unemployment is considered long-term.
Unemployment 15-24, 2013
(Share of total)
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Unemployment 15-24, 2013
(Share of total)
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Unemployment 15-24, 2013
(Share of total)
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
LT Unemployment, 2013
(Share of total)
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
LT Unemployment, 2013
(Share of total)
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
LT Unemployment, 2013
(Share of total)
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
9. Despite the recent increase, labor force participation also remains low for older cohorts and for women. Above all, Hungary remains an outlier with regard to maternal employment for mothers with children below the age of 3, which is exceptionally low at just over 10 percent. Employment rates of mothers with three or more children are also the lowest within the OECD, at just above 20 percent.
Maternal employment rates by age of youngest child
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Source: Australia, Australian Bureau of Statistics (2005); Statistics Canada (2001 data), Statistics Denmark (1999 data), Statistics Finland (2002 data), Statistics Iceland (2002 data for women age 25-54), Japanese authorities (2001 data), Swiss LFS (2006 2nd quarter data), UK Office of National Statistics (2005 data), and the US Current Population Survey (2005 data); all other EU countries, European Labour Force Survey (2005 data, except for Italy which concerns 2003).Maternal employment rates by age of youngest child
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Source: Australia, Australian Bureau of Statistics (2005); Statistics Canada (2001 data), Statistics Denmark (1999 data), Statistics Finland (2002 data), Statistics Iceland (2002 data for women age 25-54), Japanese authorities (2001 data), Swiss LFS (2006 2nd quarter data), UK Office of National Statistics (2005 data), and the US Current Population Survey (2005 data); all other EU countries, European Labour Force Survey (2005 data, except for Italy which concerns 2003).Maternal employment rates by age of youngest child
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Source: Australia, Australian Bureau of Statistics (2005); Statistics Canada (2001 data), Statistics Denmark (1999 data), Statistics Finland (2002 data), Statistics Iceland (2002 data for women age 25-54), Japanese authorities (2001 data), Swiss LFS (2006 2nd quarter data), UK Office of National Statistics (2005 data), and the US Current Population Survey (2005 data); all other EU countries, European Labour Force Survey (2005 data, except for Italy which concerns 2003).C. Scope for Further Policy Action: Removing Obstacles to Employment
10. In view of the recently enacted reforms to the tax and benefit systems, scope for further policy changes in Hungary may appear limited. However, in order to boost private sector employment there is a need to i) complete and strengthen reforms that have been left unfinished; ii) mitigate some of the adverse effects of measures that were taken (see Box 1); and iii) tackle areas that have been left untouched so far. Recommendations consider constraints both on the supply and demand side of labor and are organized by major areas for reform. As a backdrop to the discussion focused on Hungary, Box 2 and Table 1 summarize international policy responses.
International Policy Responses
Advanced countries have employed some or all of the following interventions in order to boost participation and job-creation:
Overall reductions in the tax wedge: Redistribution of the tax burden towards consumption taxes and/or by base broadening; on the benefit side, by reducing the generosity and tightening eligibility criteria of benefit programs.
Targeted tax relief: “In work” tax credits for low-income earners, women, or older workers, while redistributing the tax burden to groups with a more inelastic labor supply; and targeted employer tax credits for specific groups of workers.
Making pension benefits actuarially neutral to the age of retirement: For example, removing the tax-favored status of early retirement programs (vis-à-vis pension benefits) to reduce financial incentives to retire.
Reductions in labor market rigidities: Greater flexibility in hiring and firing; minimum wage differentiation according to age, experience, or ability.
Emphasizing “active” labor market programs (ALMPs): Particularly important for the long-term unemployed or young; most effective interventions include targeted wage subsidies and tailored training and job search assistance.
Blanchard, Jaumotte and Loungani (2013) identify three basic labor market regimes that have evolved over time: the “Anglo-Saxon” model with low employment protection and low unemployment benefits; the “Nordic” model with high employment protection, generous but conditional unemployment benefits, and strong ALMPs; and the “continental model” with a high degree of protection and benefits, but little ALMPs. While the first two models are deemed relatively successful in keeping unemployment low, they have very different outcomes with regard to income inequality, which tends to be substantially higher in countries with the Anglo-Saxon model. As the consensus view is moving towards embracing the Nordic system, also termed “flexicurity,” it may be challenging to replicate this model in countries with very different traditions of labor relations. Specifically, the degree of trust between firms and workers appears to carry a high importance; and civic attitudes have a critical impact on the efficiency of labor market institutions that are vulnerable to abuse.
Also, just like Hungary, countries have been struggling to integrate specifically vulnerable groups into the labor market (Table 1). With regard to low-wage earners, interventions generally aim at reducing marginal tax rates (through employer and employee tax credits); increased “in work” benefits; keeping minimum wage increases in line with productivity; and tailored ALMP programs and training to alleviate skill gaps. In a similar fashion, programs aimed to support unemployed youth and long-term unemployed generally include targeted tax relief for employers and training and job-matching programs. Moreover, to further reduce wage costs and incentivize hiring of these “higher risk” groups, countries provide (generally time-bound) wage subsidies or differentiate the minimum wage floor.
Efforts to reduce obstacles to female labor market participation have centered on targeted tax relief for second earners or single mothers; subsidies to improve the availability of affordable child care; family-friendly employment flexibility; and adjusted parental leave policies (including job return guarantees). Finally, as population ageing is putting pressure on the viability of public pension and health systems, statutory retirement ages are being raised in line with life expectancy and policies are aimed at keeping older cohorts active for longer periods. Early retirement options have been restricted or made less attractive through higher actuarial penalties, and countries have fine-tuned tax interventions to make pension benefits actuarially neutral to additional years in employment. This has involved taxing pension benefits or providing “in work” tax credits. Reductions in employer contributions that are relatively successful in increasing demand for low-skilled workers have not yielded a positive impact in the case of older workers (OECD 2011b).
Targeted Labor Market Interventions
Targeted Labor Market Interventions
| Target group | Tax system | Benefits system | Labor market regulations | ALMPs |
|---|---|---|---|---|
| Low-skilled | General progressivity; Employer and employee tax credits | Increased “in work” benefits; conditionality | Flexible minimum wages | Vocational training; job-search assistance; wage subsidies |
| Long-term unemployed | Employer and employee tax credits | Increased “in work” benefits; conditionality | Flexible minimum wage | Vocational training; job-search assistance; wage subsidies |
| Youth | Employer tax credits | Increased “in work” benefits; conditionality | Flexible minimum wage | Vocational training; job-search assistance; wage subsidies |
| Second earners | Individual taxation; no spouse allowance; employee tax credits | Job-search assistance | ||
| Parents | Employee tax credits | Job guarantee; flexible parental leave; affordable child care | Flexible employment options | Job-search assistance; wage subsidies |
| Older workers | Make pension benefits actuarially neutral to retirement age; tax pensions | Restricted early retirement | Vocational training; job-search assistance; wage subsidies |
Targeted Labor Market Interventions
| Target group | Tax system | Benefits system | Labor market regulations | ALMPs |
|---|---|---|---|---|
| Low-skilled | General progressivity; Employer and employee tax credits | Increased “in work” benefits; conditionality | Flexible minimum wages | Vocational training; job-search assistance; wage subsidies |
| Long-term unemployed | Employer and employee tax credits | Increased “in work” benefits; conditionality | Flexible minimum wage | Vocational training; job-search assistance; wage subsidies |
| Youth | Employer tax credits | Increased “in work” benefits; conditionality | Flexible minimum wage | Vocational training; job-search assistance; wage subsidies |
| Second earners | Individual taxation; no spouse allowance; employee tax credits | Job-search assistance | ||
| Parents | Employee tax credits | Job guarantee; flexible parental leave; affordable child care | Flexible employment options | Job-search assistance; wage subsidies |
| Older workers | Make pension benefits actuarially neutral to retirement age; tax pensions | Restricted early retirement | Vocational training; job-search assistance; wage subsidies |
Labor Supply
Tax Policy
11. Moving into the workforce can be discouraged by high “participation taxes,” or the combined impact of taxes on income and reductions in previously received benefits. International evidence shows that some groups are particularly sensitive to work disincentives, such as low-income workers, second earners, single parents (mostly women) and older workers. Male labor market participation is overall pretty inelastic, but elasticities are higher for low-skilled workers. The same is true in Hungary. For example, Benczur et. al (2012) find above-average tax and benefit elasticities for the low-skilled, older workers, and women of child-bearing age.3
12. The recent changes in the Hungarian tax system reduced the overall tax burden on labor, and annual tax revenues fell by approximately 1.5 percent of GDP. However, Toth and Virovacz (2013) estimate that taxpayers in the two top income deciles had their tax burden reduced by about 2 percent of GDP, while people in the bottom half of the income distribution mostly ended up with a higher tax burden. Nevertheless, the overall tax wedge in Hungary still remains high, and the tax wedge for low-income earners increased as a result of the reforms, augmenting the risk of unemployment and inactivity traps (OECD 2013b). This could be addressed by reinstating a limited employment tax credit (ETC). The design of such an ETC should be more targeted than the ETC that was in effect in 2010, which would help reduce its budgetary cost. As described in Benedek et. al (2013), it should be credited only against labor income, and phased out rapidly after the minimum wage (while preserving reasonable METRs).
Average tax wedge on low to average wages1
(Percent of labor costs)
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Sources: OECD (2013), “Taxing Wages: Comparative tables”, OECD Tax Statistics (database), December.1. Taxes are the sum of personal income tax and employee plus employer social security contributions together with any payroll tax less cash transfers.Average tax wedge on low to average wages1
(Percent of labor costs)
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Sources: OECD (2013), “Taxing Wages: Comparative tables”, OECD Tax Statistics (database), December.1. Taxes are the sum of personal income tax and employee plus employer social security contributions together with any payroll tax less cash transfers.Average tax wedge on low to average wages1
(Percent of labor costs)
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Sources: OECD (2013), “Taxing Wages: Comparative tables”, OECD Tax Statistics (database), December.1. Taxes are the sum of personal income tax and employee plus employer social security contributions together with any payroll tax less cash transfers.13. Income underreporting is a concern in the context of income-targeting, and the latter should be accompanied by forceful tax administration measures. There are a number of known sectors where the probability of underreporting is the highest and tax audits could be targeted on those (Elek et al., 2012). Also, a more streamlined tax regime could help transparency and compliance and facilitate tax audits. ETCs tend to have the strongest participation effect if beneficiaries get a regular pay-out (via a direct monthly cash transfer or higher monthly net pay due to reduced employer tax withholding). In Hungary, this would have to be weighed against the administrative costs, however. As the administrative burden on firms (especially SMEs) is already high, annual rebates may be preferable.
14. Another notable fact is that the tax wedge on second income earners with children is also high in Hungary—despite its system of individual taxation (OECD, 2011a).4 This represents an additional obstacle to female participation, which is aggravated by the higher elasticity at the extensive margin found for married women in Hungary (Benczur et al., 2012).
Average tax wedge – single parent versus second earner (two children); income = 67% of AW; (primary earner income = 100% of AW)
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Average tax wedge – single parent versus second earner (two children); income = 67% of AW; (primary earner income = 100% of AW)
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Average tax wedge – single parent versus second earner (two children); income = 67% of AW; (primary earner income = 100% of AW)
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Social Benefits
15. Apart from financial incentives, parents’ participation decisions tend to be sensitive to a job return guarantee, the availability of affordable childcare, and flexible work arrangements. International evidence on the relationship between paid parental leave and female employment suggests that shorter leave periods may have a positive influence on keeping women in the labor force. For example, women in the US were more likely to return to work if they had a leave entitlement of 12 weeks (Berger and Waldfogel, 2004). The marginal effect of extending leave periods beyond certain limits appears to be negative, however (OECD, 2011a).
16. In Hungary, mothers’ labor force participation decisions appear less responsive to standard interventions than expected. For example, several studies find no significant increase in mother re-entry rates after the de-facto reduction in the child benefit in 1996 (Köllő, 2009 and 2012; and Szabo-Morvai, 2011). Also, while women’s labor force participation responds positively to the availability of affordable childcare, participation decisions (especially as children turn 3) seem to be influenced heavily by factors other than childcare and the duration of parental leave (Lovasz and Szabo-Morvai, 2013), suggesting a strong role of societal preferences and expectations.
17. During the recent reforms, maternity benefits were made a little more flexible, but total parental leave was recently extended from two to three years and the system remains heavily skewed towards keeping mothers of very young children at home. As illustrated, there is a clear negative relationship between the duration of leave and maternal employment. Apart from the financial and other incentives inherent in the benefit system, parents are also severely constrained by the limited availability of subsidized childcare for children below the age of three.
Employment rates for mothers with children below age 3 and leave duration
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Employment rates for mothers with children below age 3 and leave duration
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Employment rates for mothers with children below age 3 and leave duration
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Formal childcare under the age of 3 - % over the population, 2011
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Source: Eurostat SILC 2013Formal childcare under the age of 3 - % over the population, 2011
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Source: Eurostat SILC 2013Formal childcare under the age of 3 - % over the population, 2011
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Source: Eurostat SILC 201318. Moreover, access to flexible work arrangements also tends to affect parents’ participation decisions. Growing female labor force participation across Europe—for example, in the Netherlands—is strongly associated with part-time employment. However, it is not clear to what extent this has been a constraint in Hungary. Anecdotal evidence suggests that part-time employment may just not be affordable for most. This underscores the need for a three-pronged approach to facilitate higher female labor force participation, including income support and/or tax incentives, family-friendly work conditions, and the availability of affordable child-care. In addition, a shorter duration of parental leave and some streamlining of family benefits (such as the abolition of accrued vacation benefits to be paid by the employer) could help boost labor demand in this segment.
Pension System and Health Care
19. Old-age and disability pensions have a strong impact on retirement decisions in Hungary, in particular for low-wage earners in disadvantaged regions (Köllő and Nacsa 2005; Cseres-Gergely 2008). The steps taken to phase out early retirement schemes and tighten access to disability pensions will help boost Hungary’s historically low effective age of retirement (the fourth-lowest in the OECD in 2012; OECD, 2013b). Together with the gradual increase in the statutory retirement age to 65 by 2022, this will have a significant impact on the labor market participation of older cohorts, and it would be advisable to link future increases in the statutory retirement age to life expectancy. On the other hand, the establishment of a new early retirement scheme for women seems to be a step in the opposite direction, and should be phased out in order to achieve full policy coherence.
20. A few additional factors constraining older cohorts’ participation are worth noting. With regard to the tax system, the completely flat income taxation implies that changes in gross pension wealth during 60-65 years of age are strictly constant with earnings (OECD 2013b). In other words, incentives to retire are identical across income levels, with no allowance for low-income earners’ relatively lower and high-income earners’ higher propensity to stay active. In contrast, a number of OECD countries (including Austria, the Czech Republic and the Slovak Republic) provide better incentives for lower and middle-income workers to stay in work. Apart from re-considering the progressivity of the tax system, taxing pension benefits would also reduce financial incentives to retire.
21. In addition to financial incentives, older cohorts’ activity is affected by a number of structural factors. Just like young parents, older cohorts’ labor market participation (in particular of women) is constrained by the lack of affordable child care, and the need for grandparents to support their children. Moreover, limited access to affordable long-term care also requires many potential labor market participants between 55 and 65 to take care of their ailing parents. Finally, the poor overall health status of the Hungarian population implies that many workers are afflicted by debilitating health conditions, in particular at advancing age. In sum, boosting older cohorts’ productive participation in the labor market will also require addressing complex issues, such as greater access to affordable long-term care and the poor health status of the population at large.
Labor Demand
Tax policy
22. Taxes may contribute to depressing labor demand below the market clearing level. Theoretically, labor taxes are expected to reduce both demand and supply of labor without creating “involuntary” unemployment. Evidence from OECD countries supports that high labor taxes may raise unemployment, particularly in the presence of labor market rigidities, such as minimum wages or decentralized unionization and wage bargaining (Bassanini and Duval 2006; OECD 2006). Labor market rigidities may also take the form of employment protection legislation (EPL). High obstacles to laying off workers and significant severance pay requirements tend to affect mostly those that employers might perceive as “higher risk,” such as career starters, the long-term unemployed, and women at a child-bearing age. Evidence from Hungary supports the notion that reductions in employer social contributions increase employment (Benedek et al. 2013; Cseres-Gergely et. al, 2012). 5
23. Tax expenditures under the Job Protection Act (JPA) are aimed at lowering employer contributions and increasing the employment of targeted groups. However, reportedly, 14 percent of total spending benefits higher income groups, and middle-aged low-income workers are excluded from the scheme (OECD 2014). While the administrative costs of reducing leakage have to be weighed against its potential benefits, there is some room for improvement (and savings of about 20bn HUF). For example, eligibility could be restricted to lower-skilled workers over 55 or lower-skilled returning mothers only. Highly skilled groups tend to have higher employment and participation rates in any case. Also, eligibility could be made contingent on a spell in unemployment, and applied to new hires only. Using income as a guide would be the simplest method to target such subsidies, and many countries successfully combine income-targeting with other criteria. In Hungary, including more lower-skilled workers of all ages within the eligible group could be a step in this direction.
24. Moreover, in the case of returning mothers, labor demand may not just depend on wage costs; arguably, it could be improved cost-effectively by reducing the length of the employment re-entry guarantee (3 years) and abolishing the accrual of paid vacations that the employer also has to cover.
Business Environment
25. Another dampening effect on labor demand that remains to be addressed is the business environment. The overall administrative burden on businesses and citizens in Hungary is high, and keeps growing amidst changes in policies and regulations.
Administrative burdens are high1
Index scale of 0-6 from least to most restrictive
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Source: OECD (2013), OECD Product Market Regulation Statistics (database), July and I. Koske, I. Wanner, R. Bitetti and O. Barbiero (2014), “The 2013 Up-date of the OECD Product Market Regulation Indicators: Policy Insights for OECD and non-OECD Countries”, OECD Economics Department Working Papers, forthcoming.1. The product market regulation indicator for administrative burdens is composed of the following three elements (equal weights): administrative burdens for corporations, administrative burdens for sole proprietor firms and sector specific administrative burdens (road transport and retail distribution).2. Preliminary data calculated on the basis of the 2008 methodology for purposes of comparability. For more details, see Koske et al. (2014) which provides the 2013 indicators with a revised methodology.Administrative burdens are high1
Index scale of 0-6 from least to most restrictive
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Source: OECD (2013), OECD Product Market Regulation Statistics (database), July and I. Koske, I. Wanner, R. Bitetti and O. Barbiero (2014), “The 2013 Up-date of the OECD Product Market Regulation Indicators: Policy Insights for OECD and non-OECD Countries”, OECD Economics Department Working Papers, forthcoming.1. The product market regulation indicator for administrative burdens is composed of the following three elements (equal weights): administrative burdens for corporations, administrative burdens for sole proprietor firms and sector specific administrative burdens (road transport and retail distribution).2. Preliminary data calculated on the basis of the 2008 methodology for purposes of comparability. For more details, see Koske et al. (2014) which provides the 2013 indicators with a revised methodology.Administrative burdens are high1
Index scale of 0-6 from least to most restrictive
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Source: OECD (2013), OECD Product Market Regulation Statistics (database), July and I. Koske, I. Wanner, R. Bitetti and O. Barbiero (2014), “The 2013 Up-date of the OECD Product Market Regulation Indicators: Policy Insights for OECD and non-OECD Countries”, OECD Economics Department Working Papers, forthcoming.1. The product market regulation indicator for administrative burdens is composed of the following three elements (equal weights): administrative burdens for corporations, administrative burdens for sole proprietor firms and sector specific administrative burdens (road transport and retail distribution).2. Preliminary data calculated on the basis of the 2008 methodology for purposes of comparability. For more details, see Koske et al. (2014) which provides the 2013 indicators with a revised methodology.26. The 2013 Global Competitiveness report ranked Hungary 140th among 148 countries with regard to the perceived regulatory burden (World Economic Forum, 2013). This has been compounded by policy uncertainty. In particular, businesses face burdensome and unstable rules with regard to taxation. It is estimated that SMEs spend about 277 hours a year complying with tax obligations (World Bank, IFC and PwC, 2013)-roughly 50 percent more than the OECD average. Specifically, SMEs face a whole range of taxation options, which are not particularly transparent, and perceived policy uncertainty is keeping small businesses from switching to newly established regimes despite financial incentives. Apart from creating more policy predictability to boost overall labor demand in the economy, the government could support employment creation and investment in the SME sector by harmonizing the SME tax system with the PIT and CIT regimes, and giving small enterprises more incentives to formalize and to grow.
Minimum Wage
27. With regard to minimum wages, their impact on employment remains subject to debate (Card and Krueger 1997; OECD 2006; Schmitt 2013), and the purpose of minimum wage legislation is primarily distributional. Setting the right level can be a balancing act, as minimum wages that are set too high can theoretically “price” lower productivity workers out of the labor market. Key factors in assessing the level of the minimum wage are the current wage distribution (especially the median wage of vulnerable groups) and prevailing labor market conditions (for example, unemployment of low-skilled workers). A practical “rule of thumb” suggests that it should remain below one-third of average wages for countries with high unemployment among the young and low-skilled—or those potentially perceived as “low productivity” workers (Rutkowski 2003). In Hungary, historical increases in the minimum wage were indeed found to reduce the demand for labor. Kertesi and Köllő (2003) and Elek at al. (2012) study the large increase in minimum wages in 2001–02 and find a significant and negative impact on employment, which was particularly pronounced for the young, the unskilled, and those living in disadvantaged regions.
28. Over the past years, increases in the minimum wage in Hungary have surpassed growth in average wages and productivity. Minimum wages now account for just under half of average wages in the economy.6 This may be having a negative impact on vulnerable job-seekers, such as the low-skilled or young; employment-creation in relatively disadvantaged regions; and labor market formality. The current labor code in principle permits a differentiation of minimum wages, such as exists in many countries for certain groups (youth) or regions. For example, a youth sub-minimum wage at 75 percent of the adult minimum wage could be considered. Going forward, minimum wage increases should be kept in line with changes in average wages and productivity, and reflect prevailing labor market conditions.
Compensation and productivity1
Index, 2000 = 100
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Source: OECD (2013), OECD Economic Outlook: Statistics and Projections (database), December.1. Real compensation rate and labour productivity of the total economy. Projections for 2013.Compensation and productivity1
Index, 2000 = 100
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Source: OECD (2013), OECD Economic Outlook: Statistics and Projections (database), December.1. Real compensation rate and labour productivity of the total economy. Projections for 2013.Compensation and productivity1
Index, 2000 = 100
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Source: OECD (2013), OECD Economic Outlook: Statistics and Projections (database), December.1. Real compensation rate and labour productivity of the total economy. Projections for 2013.Reducing Labor Market Mismatches
Skills Gaps
29. The skills gaps in Hungary are high (see section B). Primarily, this is reflected in the oversupply of low-skilled workers. But also many skilled workers’ field of study does not match the requirements for their current job, possibly due to a lack of geographical mobility (discussed below). The oversupply of low-skilled workers, especially among older cohorts, is in part the lingering impact of the economic transition. However, skills mismatches have worsened over the past decade, highlighting the education system’s failure to adequately prepare new cohorts for the labor market (OECD 2014). Inequalities in education are very high.
Horizontal skills mismatch
(Workers employed in an occupation different from their field of study; percent)
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Sources: SEO Economic Research and Randstad (2012).Horizontal skills mismatch
(Workers employed in an occupation different from their field of study; percent)
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Sources: SEO Economic Research and Randstad (2012).Horizontal skills mismatch
(Workers employed in an occupation different from their field of study; percent)
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Sources: SEO Economic Research and Randstad (2012).
Inequalities in education
Impact of socio-economic background on education outcomes, per cent, 2012 1
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Source: OECD (2013), PISA 2012 Results: Excellence through Equity (Volume II).1. Percentage of variance in performance explained by the Programme for International Student Assessment (PISA) index of economic, social and cultural status (ESCS). R-squared × 100.Inequalities in education
Impact of socio-economic background on education outcomes, per cent, 2012 1
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Source: OECD (2013), PISA 2012 Results: Excellence through Equity (Volume II).1. Percentage of variance in performance explained by the Programme for International Student Assessment (PISA) index of economic, social and cultural status (ESCS). R-squared × 100.Inequalities in education
Impact of socio-economic background on education outcomes, per cent, 2012 1
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Source: OECD (2013), PISA 2012 Results: Excellence through Equity (Volume II).1. Percentage of variance in performance explained by the Programme for International Student Assessment (PISA) index of economic, social and cultural status (ESCS). R-squared × 100.30. In response, much stronger employments services with much more emphasis on individualized job-search assistance and tailored training programs in close collaboration with the private sector could help. More fundamentally, there is a need to improve the equity of the public education system, as well as the availability of vocational training opportunities. The authorities have taken steps in the right direction by adopting the Youth Guarantee scheme and using EU funds to boost training programs in the 2014 budget. Also, they intend to improve public education. However, to date the focus of employment policies seems to remain squarely on the public works program, at the expense of funding for the Public Employment Service (PES) and other ALMPs.
ALMPs
31. In 2011, total spending on labor market interventions amounted to only 1 percent of GDP, of which roughly one third was funding for ALMPs. Within this limited envelope, funding for the PES had shrunk dramatically. At the same time, expenditure on the public works program (of which more than 80 percent is spending on wages) has expanded significantly. In 2014, the public works program is expected to cover about 400 thousand workers, accounting for 10 percent of total employment in the economy (see Box 2 of the accompanying Staff Report).
Spending on Active Labor Market Programs, 2011 1/
(Percent of total)
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
1/ Data for Emerging Europe refers to 2009Spending on Active Labor Market Programs, 2011 1/
(Percent of total)
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
1/ Data for Emerging Europe refers to 2009Spending on Active Labor Market Programs, 2011 1/
(Percent of total)
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
1/ Data for Emerging Europe refers to 200932. Lower spending on employment services is in line with the substantial reduction in the duration and level of unemployment benefits (Box 1). However, the case-load of the PES has increased disproportionally, reaching 145 job-seekers per PES staff member in 2012 (OECD, 2014). In comparison, the average case load in Germany, which has also relied on significant reductions in benefits to incentivize labor market participation, is 47. In addition, the duration of benefits is arguably too short to allow for a proper job-search or an effective intervention by the PES. As discussed above, in particular young job-seekers would be better served by more prolonged, personalized assistance, combined with effective training or targeted wage subsidies. Strengthened, “Nordic”-style ALMPs could be financed by phasing out the public works program, unless its benefits can be rigorously documented. While data is scarce, official figures indicate that only around 13 percent of participants are able to find private sector work within 180 days of leaving the program. This raises questions about the program’s overall cost effectiveness.
33. The track records of public works programs beyond their use as short-term crisis measures are poor—in Hungary and beyond. For example, Card, Kluve and Weber (2010) examine 199 ALMP evaluations and find the impact of training and job-search assistance to be positive, while pubic employment has a negative impact. In Hungary, Köllő and Scharle (2012) find public works programs in Hungary between 2003 and 2008 not to reduce long-term unemployment. Also, Csoba and Nagy (2012) evaluate Hungarian training, public works and employment subsidy programs between 2009 and 2010: they find that participants of the wage subsidy program were significantly more likely to find jobs 6–12 months after the program (public works programs had a significantly negative impact). While all these studies are limited in absence of natural experiments approximating randomized trials, the recurrent finding of a potentially negative impact of public works programs should give reason for pause.
34. Anecdotal evidence suggests that the public works program in Hungary may indeed be detrimental to people seeking regular employment. The 8-hour workdays in the (compulsory) program provide little chance for an effective job search. While training programs exist, they are generally contracted out and (by informal accounts) woefully lacking (OECD 2014). Finally, the stigma for former public works participants is likely to be high, further complicating their uphill battle to exit the system. While the pure activation component may be beneficial, this could also be accomplished through strict conditionality during more extended period of unemployment benefits and effective ALMPs.
Geographical Mismatches and Mobility
35. Finally, unemployment in Hungary has a strong regional profile. This calls for efforts to boost job creation in relatively disadvantaged regions, and enhancing the mobility of the labor force such that workers can take jobs elsewhere. The government created low-tax zones to incentivize job-creation in particular regions, and provides re-location subsidies. However, more needs to be done. On the labor demand side, minimum wages could be differentiated along regional lines in addition to the existing tax preferences and decentralized wage bargaining. On the labor supply side, policies facilitating greater mobility should encompass improvements in public transport beyond urban centers and incentives for a more flexible housing market.
Unemployment rate by county
Registered unemployment rates, percent, 2012 1
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Source: OECD (2014)1. Registered jobseekers in percent of economically active population aged 15-64.Unemployment rate by county
Registered unemployment rates, percent, 2012 1
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Source: OECD (2014)1. Registered jobseekers in percent of economically active population aged 15-64.Unemployment rate by county
Registered unemployment rates, percent, 2012 1
Citation: IMF Staff Country Reports 2014, 156; 10.5089/9781498379861.002.A003
Source: OECD (2014)1. Registered jobseekers in percent of economically active population aged 15-64.D. Conclusions
36. Recent reforms in Hungary have been relatively successful in activating potential labor market participants, especially those that had been covered by early retirement or disability pensions. Also, targeted reductions in the high contribution burden on employers under the Job Protection Act are a step in the right direction. Yet overall policy coherence is still lacking and more needs to be done to help increase the low participation and employment rates.
37. Apart from considering some of the options described in Section C, it is critical to carry out rigorous and independent research to evaluate policy interventions regularly—and for policy-makers to adjust or replace programs based on their effectiveness. No single approach or too narrow a focus will be sufficient to address the many issues hampering participation and employment on both the labor demand and supply side, as is also evident in the host of measures generally employed in advanced economies. In the end, long-term improvements in labor market outcomes will also depend on complimentary structural reforms, ranging from improvements in health care and public education to changes in cultural preferences and attitudes towards gender roles and child-rearing.
References
Bassanini, A. and R. Duval (2006), “Employment Patterns in OECD Countries: Reassessing the Role of Policies and Institutions”, OECD Social, Employment and Migration Working Papers, No. 35; and OECD Economics Department Working Papers, No. 486.
Benczur, P., G. Katay and A. Kiss (2012), “Assessing Changes of the Hungarian Tax and Transfer System: A General-Equilibrium Microsimulation Approach,” MNB Working Papers 2012/7, Budapest.
Benedek, D., G. Kátay and Á. Kiss (2013), “Microsimulation as a Tool for Assessing the Impact of Tax Changes”, in K. Fazekas et al. (eds.) (2013), The Hungarian Labour Market, 2013, Centre for Economic and Regional Studies, Hungarian Academy of Sciences and National Employment.
Berger, Lawrence M. and Waldfogel, Jane, (2004), Maternity leave and the employment of new mothers in the United States, Journal of Population Economics, 17, issue 2
Blanchard, O., F. Jaumotte and P. Loungani (2013), “Labor Market Policies and IMF Advice in Advanced Economies During the Great Recession,” IMF Staff Discussion Note 13/02, Washington, D.C.
David Card & Alan B. Krueger (1997) “Myth and Measurement: The New Economics of the Minimum Wage,” Princeton University Press
Card, D., J. Kluve and A. Weber (2010), “Active Labour Market Policy Evaluations: A Meta-Analysis”, NBERWorking Paper, No. 16173, National Bureau for Economic Research
Cseres-Gergely, Z. (2008), Incentive effects in the pension system of Hungary. In: Cseres-Gergely, Zs., Fazekas, K. and Scharle, Á. (eds.): The Hungarian labour market. Review and analysis. 2008. In focus. Social welfare and labour supply. Institute of Economics, HAS–Hungarian Employment Foundation, Budapest
Cseres-Gergely, Zs., Földessy, Á. and Scharle, Á. (2012), “Evaluating the impact of a well-targeted wage subsidy using administrative data’” BWP, IE-HAS, forthcoming
Csoba, J. and E. Nagy (2012), “The Evaluation of Training, Wage Subsidy and Public Works Programs in Hungary,” in K. Fazekas and Kezdi (eds.) (2012), The Hungarian Labour Market, 2012, Centre for Economic and Regional Studies, Hungarian Academy of Sciences and National Employment
Elek, P., J. Kollo, B. Reizer and P. Szabo (2012), “Detecting Wage Under-reporting Using a Double Hurdle Model,” Budapest Working Papers on the Labour market, BWP 2012/1, Budapest
Jaumotte, F. (2003), “Female Labour Force Participation: Past Trends and Main Determinants in OECD Countries”, OECD Economics Department Working Papers, No. 376.
Köllő, J. (2009): A pálya szélén. Iskolázatlan munkanélküliek a posztszocialista gazdaságban. (On the sidelines: Uneducated unemployed in the post-socialist economy) Osiris, Budapest.
Köllő, J. (2012): Reconciliation of work and family life– the impact of child allowances, in Fazekas, K. and Scharle, Á. (eds.): From pensions to public works. Hungarian employment policy from 1990 to 2010. Budapest Institute for Policy Analysis and Institute of Economics, Hungarian Academy of Sciences, Budapest,
Köllő, J. –Nacsa, B. (2005): Flexibility and Security in the Labour Market. Experiences from Hungary. ILO Flexicurity paper 2004/2. International Labour Office, Budapest.
Köllő, J. and A. Scharle (2012), The Impact of the Expansion of Public Works Programs on Long-Term Unemployment, in K. Fazekas and Kezdi (eds.) (2012), The Hungarian Labour Market, 2012, Centre for Economic and Regional Studies, Hungarian Academy of Sciences and National Employment
Lovasz, A. and A. Szabo-Morvai, (2013), Does Childcare Matter for Maternal Labor Supply? Pushing the Limits of the Regression Discontinuity Framework, Budapest Working papers on the Labor Market 2013/13
Kertesi, G. and J. Köllő (2003), “Fighting ‘Low Equilibria’ by Doubling the Minimum Wage? Hungary’s Experiment”, IZA Discussion Paper, No. 970, Institute for the Study of Labour.
Ladányi, T. and R. Kierzenkowski (2012), “Work Incentives and Recent Reforms of the Tax and Benefit System in Hungary”, OECD Economics Department Working Papers, No. 944, OECD Publishing
OECD (2006), OECD Employment Outlook, OECD Publishing, Paris
OECD (2011a), “Reducing Barriers to Parental Employment” in Doing Better for Families, OECD Publishing, Paris
(OECD 2011b) Taxation and Employment, OECD Tax Policy Studies No. 21, OECD Publishing, Paris
OECD (2013a), Education at a Glance 2013: OECD Indicators, OECD Publishing
OECD (2013b), Pensions at a Glance, OECD Publishing, Paris.
OECD, (2014) OECD Economic Survey: Hungary, OECD Publishing, Paris
Randstat (2012), “Into the Gap: Exploring Skills and Mismatches”, SEO Report No. 2011-56, SEO Economic Research.
Rutkowski, J. (2003), “The Minimum Wage: Curse or Cure?”mimeo, The World Bank, Washington D.C.
Schmitt, J. (2013), “Why does the Minimum Wage have no Discernible Effect on Employment?” Center for Economic and Policy Research, Washington D.C.
Szabó-Morvai, Á. (2011): Labor market effect of child benefits: The Case of Hungary, mimeo.
Toth, C. and P. Virovacz, (2013), “Winners and Losers: An Assessment of the Hungarian Flat Tax Reform with Microsimulation,” Public Finance Quarterly, State Audit Office of Hungary, vol. 58 (4).
World Bank, IFC and PwC (2013), “Paying Taxes 2014: the Global Picture,” World Bank, IFC and PricewaterhouseCoopers.
World Economic Forum (2013), The Global Competitiveness Report 2013–2014.
Prepared by Eva Jenkner.
A few disclaimers: we focus on micro-level incentives, but of course it is acknowledged that a much more comprehensive policy response is required to create sustained employment growth. Also, we focus on the labor market impact of tax and benefit interventions, while it is understood that many of the interventions discussed primarily have social or redistributive objectives. Further, budgetary implications and the availability of fiscal space are only considered for selective measures. Finally, in many instances the timeliness of our data is not keeping up with the rapid policy changes in Hungary. Nonetheless, we consider the evidence presented still to be relevant.
They found a high sensitivity for married women in particular, which diverges slightly from the international evidence that single women are the most elastic in their labor supply decisions.
In line with Jaumotte (2003), second-earner tax wedge is computed as how much extra income tax and social security contribution (SSC), the family will have to pay, as a proportion of the second earner’s total income plus employer SSC due on the second earner’s income.
Benedek et. al (2013) predicted reductions in employer social contributions under the Job Protection Act to increase employment by 1 percent. The authors also estimate that reinstating a simplified form of the employment tax credit (ETC) could boost employment by twice as much, or 2 percent (at only slightly higher fiscal cost). Cseres-Gergely et. al (2012) assess a more targeted predecessor program to the Job Protection Act, the so-called START extra program, and find a significant and positive effect for re-employment probabilities. Amongst other things, START extra provided a reduction in employer contributions for long-term, low-skilled unemployed over 50.
The discussion focuses on the regular minimum wage. Hungary also applies a “skilled workers” minimum wage to set a floor on wage underreporting.
